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Fixing Detroit's Bailout Blues

General Motors world headquarters is shown in Detroit, in this Tuesday, April 21, 2009 file photo. GM said Wednesday May 27, 2009 that not enough of its bondholders agreed to swap their debt for company stock, meaning the troubled automaker is almost certainly headed for bankruptcy protection. (AP Photo/Paul Sancya, File)

GM and Chrysler have come back for government money. Now it is nearly $30 billion and could get bigger, so we should tell them to produce 50 mile a gallon cars, pay their employees well and do lots of other good stuff and appoint a "car czar committee" to ensure they do the right things. Or should we? Running Detroit from Washington is the perfect way to ensure that consumers don't benefit from competition.

Government officials are extremely dedicated, smart, and unlikely to be good at running a car company, but they are likely to be in the midst of Washington politics. If Toyota and Honda do an even better job than they have so far, we might see calls for increased taxation, import duties, voluntary restraint agreements all designed to insulate Detroit from the vagaries of the market. Higher prices and reduced innovation would be the order of the day. Not a good plan for America.

The government should harness the power of consumers and provide the right incentives for the car companies. Instead of a handout with lots of strings attached, there are two simple things that the government could do that would protect consumers, the environment and the government investment much more.

First, any bill to provide capital to the auto industry should include a gas tax to finally get the price of gasoline in line with its true costs to society. One example would be to have the gas tax go up 50 cents per gallon each year for the next 6 years so that 6 years from now there would be a $3 a gallon tax (and then index it for inflation). That is probably much closer to true environmental and security costs of gasoline.

The tax increase would be gradual to provide time to retool and for consumers to adjust their habits and auto fleets. Most importantly, no one in Washington would have to tell Detroit what to produce. Consumers would be clamoring for fuel efficient cars. And now is the time to do it - Detroit has little choice but to accept this deal. It could also lead to a more general carbon tax that would help with the fight against climate change.

There are two big concerns - that in the time of economic turmoil we should not be increasing tax burdens on anyone, and that increasing the gas tax would cause undue hardship to low-income families. Any tax increase should take account of these issues, and there are many ways to do so without sacrificing the important efficiency gains from setting the price of gasoline nearer its true cost so people adjust their habits.

For example, a 50 cent a gallon tax on a driver with a 20 mpg car who drives 10,000 miles per year would be $250 or about $20 per month. One way to offset the cost would be to use the tax revenues to offset the first $250 of social security taxes in year one and a lesser additional amount each year as people are able to shift to higher mileage cars, drive less, take more mass transit, etc. People would get the money back and make better decisions for our planet and the government would not become Detroit's marketing experts. In addition, reducing social security taxes might make it easier for people to be hired.

Second, any new funding for the auto companies should come with a "matching fund" requirement. Partnering with private investors instead of being the sole new lender would minimize the need for government oversight. The government would not provide the entire amount of the bailout loans, but instead would require that private investors participate in the funding.

The private investors would supply loans on exactly the same terms and conditions, with maybe at a 3-5% interest premium. But all claims, covenants, etc. would be identical. Therefore because private investors are putting up real money (and lots of it) themselves, they will have the incentive to ensure good management at the auto companies and the need for federal government micromanagement would be reduced substantially.Tying funding to an increase in the gasoline tax to a reasonable level and requiring private investors to partner with the government in providing financing together allow the government to protect all of us, but do so in a much more efficient manner than current proposals.